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The Basics of Cost-Volume-Profit (CVP) Analysis

Next Page Click Here. The Basics of Cost-Volume-Profit (CVP) Analysis. CM can be expressed in total or per unit. Contribution margin (CM) is the difference between sales revenue and variable expenses.

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The Basics of Cost-Volume-Profit (CVP) Analysis

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  1. Next Page Click Here The Basics of Cost-Volume-Profit (CVP) Analysis CM can be expressed in total or per unit. Contribution margin (CM) is the difference between sales revenue and variable expenses. The CM ratio is computed by dividing the per unit contribution margin by the per unit selling price.$200÷$500 = 40%

  2. Next Page Click Here The Basics of Cost-Volume-Profit (CVP) Analysis After fixed expenses are covered, any additional contribution margin results in net income.

  3. Next Page Click Here Break-Even Point Wind has $80,000 of fixed expenses. If Wind sells 400 unitsin a month, Wind will generate $80,000 in total CM($200 CM per unit x 400 units). Wind will be operating at its break-even point.

  4. Next Page Click Here Additional Unit Sales If Wind sells one additional unit (that is, 401 bikes), net income will be $200. Net income will increase by $200 (the CM per unit) as each additional unit is sold.

  5. Next Page Click Here The Contribution Approach The break-even point can be defined as: • The point where total contribution margin equals total fixed expenses. • The point where total sales revenue equals total expenses (variable and fixed). Break-even analysis can be approached in two ways - contribution margin methodor equation method. Covered here

  6. Break-even point in units sold Fixed costs Unit contribution margin = Next Page Click Here Break-Even Analysis Fixed expenses (costs) total $80,000. Bikes sell for $500 per unit; variable expenses are $300 per unit. CM = $500 - $300 = $200 per unit CM Ratio = $200 ÷ $500 = 40% Break-even point in units sold $80,000 $200 = = 400 units Break-even point in total sales dollars Fixed costs CM ratio = Break-even point in total sales dollars $80,000 40% = = $200,000

  7. Next Page Click Here CVP Relationships in Graphic Form Viewing CVP relationships in a graph gives managers a perspective that can be obtained in no other way. Consider the following information for Wind Company:

  8. Next Page Click Here CVP Graph Total Sales Profit Area Total Expenses Dollars Break-even point Loss Area Fixed Expenses Units

  9. TargetFixed After-Tax Income costs Income Taxes CM per unit Unitsales at target after-tax income = Next Page Click Here Target Income Analysis Fixed costs total $80,000. Bikes sell for $500 per unit; variable expenses are $300 per unit. Target after-tax income is $45,000; tax rate is 25%. CM = $500 - $300 = $200 per unit CM Ratio = $200 ÷ $500 = 40% Before tax income = $45,000 ÷ (1 - .25) = $60,000, so tax expense = $60,000 - $45,000 = $15,000 + + $80,000 + 45,000 + $15,000 $200 $140,000 $200 = = 700 units

  10. TargetFixed After-Tax Income costs Income Taxes CM Ratio Dollar sales at target after-tax income = Next Page Click Here Target Income Analysis Fixed costs total $80,000. Bikes sell for $500 per unit; variable expenses are $300 per unit. Target after-tax income is $45,000; tax rate is 25%. CM = $500 - $300 = $200 per unit CM Ratio = $200 ÷ $500 = 40% Before tax income = $45,000 ÷ (1 - .25) = $60,000, so tax expense = $60,000 - $45,000 = $15,000 + + $80,000 + 45,000 + $15,000 40% $140,000 40% = = $350,000

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